The Corner for Nov. 29, 2013

All corporations have some type of capital structure which is based upon the way the company has acquired its original and succeeding capital needs and made or lost profits over time. This is separated for legal and accounting reasons into different categories.

1. A corporation builds its capital structure with four elements.

2. Long-term debt: Financial obligations due for payment after 12 months.

3. Capital stock (both common and preferred): In the broadest sense this represents shares in the proprietary interest in the company. These shares are represented by the original shares issued by the corporation to its shareholders. There may be several different types or classes of shares issued by a corporation, each having attributes slightly different from those of another class. Therefore, capital stock includes preferred and common stocks, listed at par value. Par value is the total dollar value that was assigned to the stock certificates when the owners (that is, the stockholders) of a corporation first contributed capital.

4. Capital in excess of par: This is the amount of money over par value that the company received for selling stock. (Par is an arbitrary value with no relationship to market price of the stock.) For example, if XYZ’s balance sheet indicated that it issued one million shares of common stock with a par value of $1, for a total value of $1 million and it also had $4 million of capital in excess of par ($4 per share above the par value), then it actually received $5 per share for the stock when it was originally sold.

5. Earned surplus (retained earnings): These earnings are profits that have not been paid out in dividends. On a balance sheet, retained earnings (earned surplus) represent the total of all earnings held since the corporation was formed less dividends paid to stockholders.

Operating losses in any year reduce the retained earnings from prior years.

For instance, if the total capitalization for XYZ is $90 million it very well could be structured with $50 million in long-term debt, $20 million in preferred stocks and $20 million in common shareholder’s equity. Note that capital stock plus capital in excess of par plus earned surplus equals shareholder’s equity (net worth). In short: Long-term debt plus net worth equals total capitalization.

Quote of the week: “You can make more friends in two months by becoming interested in other people than you can in two years by trying to get other people interested in you.” — Dale Carnegie

Bart Ward is the chief executive officer of Ward & Co. Ltd., an Anoka-based registered investment adviser – specializing in the management of stock and bond portfolios in companies which are listed on the NYSE.

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